As macroeconomic issues whipsaw the markets, bottom-up stock-pickers roll up their sleeves.
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By Anuradha Ramanathan | 10-13-10 | 06:00 AM | Email Article

Significant global headwinds have beleaguered markets across the world in 2010. The rising Japanese yen, persistent concerns over repercussions from the European sovereign debt crisis and the consequent austerity measures, and weak economic data from the United States have sent global investors into sell mode.

Anuradha Ramanathan is an assistant site editor for Morningstar.com based in Mumbai, India.

During the last six months, Japan's Nikkei and China's Shanghai Composite have dropped 15.5% and 14.6%, while Britain's FTSE and France's CAC have fallen 2.3% and 6.5%. Meanwhile, the S&P 500 has slipped a more moderate 2.4% during the same time, recovering from a sharper drop immediately following the height of the European crisis. As investors fled the equity markets in search of a safe haven, there was a sudden surge in gold and silver prices, further revealing a pervasive nervousness.

As markets seem to be taking their cues from discouraging macroeconomic themes, investors' focus seems to be shifting away from company fundamentals, as argued in a recent Wall Street Journal article.

"People are afraid to stay focused on the fundamentals, so they are going to the macro," says   Oakmark International  fund manager David Herro, who Morningstar named its International Stock Manager of the Decade earlier this year. "The problem with that is the macro changes like the wind; it's like the weather. There are so many variables, there are unstable coefficients, and people get whipsawed."

On the flip side, for those willing to focus on fundamentals, the market's macro-induced mood swings can create compelling buying opportunities among individual names. For instance, Herro says negative macro conditions in Europe led to a brutal 15%-plus sell-off of Spanish bank  Banco Santander   in 2010, despite the fact that the company gets less than a third of its revenue from Spain--one of the European nations caught up in the crisis.

"A lot of the firm's profits come from Brazil, Mexico, the United Kingdom, and even to some degree the United States," Herro explains. "But what we've seen is because of the weak macro conditions in Europe, people all of a sudden just want to flee European financials, without even looking to see where these companies actually earn their money."

Similarly, fund manager James Moffett of  Scout International  says his fund's strategy in Europe is focused on issue selection. "There are stocks we like," he says, including Inditex (the Spanish firm behind fast-fashion chain Zara), and Italian eyewear giant  Luxottica , which are export-oriented, multinational companies that are not completely dependent on the local market. Both were listed among the fund's portfolio holdings as of Aug. 31.

However, Moffett says the fund is underweight on European banks over lingering concerns about the stress tests and stability of the financial system. "We are still worried about that� because we think that there are still other shoes to drop for that centipede," Moffett says.

Franklin Mutual Advisers' Philippe Brugere-Trelat, portfolio manager of  Mutual Global Discovery Fund  , also says that many European corporations with strong operational performance, good management teams, and solid balance sheets "have been unfairly punished by market circumstances" and are "trading below our estimates of intrinsic value."

"In addition, given the significant contribution that exports make to the region's gross domestic product, core industrial Europe is a clear beneficiary of a depreciating currency that makes its products even more competitive on world markets," Brugere-Trelat says. "We have both added new companies, and added to some existing positions, that benefit from a weaker euro, such as  Siemens (SIE),  Daimler (DAI) or  Schneider (SU)."

Moffett has also added to internationally-oriented industrial exporters, but some of his picks are based in Japan, such as electronic equipment maker  Kyocera , the world's second-largest construction-equipment maker Komatsu , and robotic maker Fanuc . He has increased his fund's weight in Japanese companies to 14% from about 10.5% earlier in the year.

"There is somewhat also a yen play [in these investments]," Moffett says. "Unfortunately, the yen hasn't gone our way in the short run, but we think these are quality companies. And some of them are multinational in the sense that they are doing the same thing we're doing, where they are outsourcing manufacturing to China and Southeast Asia."

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Anuradha Ramanathan does not own shares in any of the securities mentioned above. Find out about Morningstar's editorial policies.
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